On Wednesday Wed 13.7.2016, the ATO released the following Law Companion Guideline:
- LCG 2016/3: Small Business Restructure Roll over: genuine restructure of an ongoing business and related matters. It explains the meaning of the term “genuine restructure of an ongoing business” in Subdiv 328-G of the ITAA 1997.
Extract from ATO’s Law Guideline
What this Guideline is about
1. This Guideline explains the meaning of the term ‘genuine restructure of an ongoing business’ in Subdivision 328-G of the Income Tax Assessment Act 1997 (ITAA 1997).
2. It discusses the features that indicate that a restructure falls within the scope of that term (see Examples 1 to 4 and 8), and those features that indicate that the restructure falls outside (see Examples 5 to 7).
2A. The requirements for the small business restructure rollover (‘SB Restructure Rollover‘) to apply include a ‘safe harbour’ rule. This is an alternative way to satisfy the ‘genuine restructure of an ongoing business’ condition. A small business will be taken to satisfy the condition where, among other things, there is no change in the ultimate economic ownership of any of the significant assets of the business for three years following the roll-over [s328-435]. This Guideline illustrates what could constitute a significant asset of a business and explains the impact where there is a change in the ultimate economic ownership within three years (see Example 9).
2B. This Guideline also canvasses the interaction with Part IVA (see Example 10) and the availability of the SB Restructure Rollover for transfers of active assets and not ownership interests generally (see Example 11).
2C. The SBRR includes an alternative test to satisfy the ultimate economic ownership requirement. This Guideline illustrates situations where a transaction will not have the effect of changing the ultimate economic ownership of an asset, as a result of the alternative test (see Examples 12 and 13).
Date of effect
3. This Guideline applies to transfers that occur on or after 1 July 2016 which involve:
- (a) a balancing adjustment event for a depreciating asset;
- (b) trading stock or a revenue asset, or
- (c) a capital gains tax (CGT) event in respect of a CGT asset (that is not a depreciating asset, trading stock or a revenue asset).
4. The SB Restructure Rollover can apply to transactions that are, or are part of, a ‘genuine restructure of an ongoing business’.*
*Paragraph 328-430(1)(a). The remaining paragraphs in subsection 328-430(1) set out further requirements for the SB Restructure Rollover to apply, including that the asset being transferred is an active asset, that the ultimate economic ownership of the asset does not materially change, and that the parties to the transaction both meet a residency requirement and choose for the SB Restructure Rollover to apply.
5. Whether a transaction is or is part of a ‘genuine restructure of an ongoing business’ is a question of fact that is determined having regard to all of the circumstances surrounding the restructure.
6. A ‘genuine restructure of an ongoing business’ is one that could be reasonably expected to deliver benefits to small business owners in respect of their efficient conduct of the business. It can encompass a restructure of the way in which business assets are held where that structure is likely to have been adopted had the business owners obtained appropriate professional advice when setting up the business. However, it is a composite phrase emphasising that the SB Restructure Rollover is not available to small business owners who are restructuring in the course of winding down or realising their ownership interests.
7. The following features indicate that a transaction is, or is part of, a ‘genuine restructure of an ongoing business’:
- It is a bona fide commercial arrangement undertaken in a real and honest sense to:
- facilitate growth, innovation and diversification;
- adapt to changed conditions; or
- reduce administrative burdens, compliance costs and/or cash flow impediments.
- It is authentically restructuring the way in which the business is conducted as opposed to a ‘divestment’ or preliminary step to facilitate the economic realisation of assets.
- The economic ownership of the business and its restructured assets is maintained.
- The small business owners continue to operate the business through a different legal structure. For example, there is:
- continued use of the transferred assets as active assets of the business;
- continuity of employment of key personnel; and
- continuity of production, supplies, sales or services.
- It results in a structure likely to have been adopted had the small business owners obtained appropriate professional advice when setting up the business.
8. The Commissioner acknowledges that tax considerations are factors that can be taken into account under a genuine small business restructure. For example, a sole trader subject to the highest marginal rate moving to a company structure to access the lower corporate tax rate.
9. However, this is not without limits. There are concerns where the restructure is contrived or unduly tax driven in the sense that it achieves a tax outcome that does not reflect the economic reality or creates an outcome that would, but for the SBRR, ordinarily attract other integrity measures in the law. For example, a restructure directed at eliminating an impending or existing tax liability, would indicate that a restructure is not a ‘genuine restructure of an ongoing business’.
10. Other factors which tend to indicate that a restructure is not a ‘genuine restructure of an ongoing business’ include:
- where the restructure is a preliminary step to facilitate the economic realisation of assets, or takes place in the course of a winding down to transfer wealth between generations;
- where the restructure effects an extraction of wealth from the assets of the business (including accumulated profits) for personal investment or consumption or otherwise designed for use outside of the business;
- where artificial losses are created or there is a bringing forward of their recognition; and
- the restructure effects a permanent non-recognition of gain or the creation of artificial timing advantages, and/orthere are other tax outcomes that do not reflect economic reality.
11. The SB Restructure Rollover contemplates restructures to or from more than one entity. Accordingly, there may be circumstances where not all business assets that are necessary for the continued operation of an ‘ongoing business’ are transferred. For example, small business owners may decide to transfer plant and equipment to a new entity, but leave real property in the original entity. On its own, this is not a factor that is inconsistent with the conclusion that a restructure is a ‘genuine restructure of an ongoing business’.
Example 2: Maintaining essential employees
24. Adrian carries on a business with his two siblings in a discretionary family trust. They are all beneficiaries of the trust and the family trust election specifies Adrian as the primary individual. The family business has several highly skilled, long-standing and trusted employees.
25. The family transfers the active assets to a company owned by Adrian and his two siblings. Sometime later, the company issues shares to those essential employees (who are not members of the ‘family group’*) with vesting conditions attached to provide incentives for their ongoing involvement in the business. [*Section 272-90 of Schedule 2F to the Income Tax Assessment Act 1936.]
25A. Where Adrian causes the company to issue shares to employees inside a three year period, Adrian cannot access the safe harbour rule in section 328-435. Accordingly, Adrian must consider whether this restructure is a ‘genuine restructure of an ongoing business’ under the ordinary meaning.
26. There is commercial advantage in restructuring to be able to provide incentives to essential employees.
27. Subsequent admission of employees as equity participants into the business is undertaken to enhance business performance and enable it to adapt to changed conditions in order to increase productivity and profit.
28. The company’s conduct after the transfer of assets is appropriately taken into account when considering the genuineness of the restructure. Here, even if the issue of new shares to the employees after the time of asset transfer is not insignificant, there is no additional tax advantage to an existing shareholder, nor access to the worth of the shares.
29. Adrian and his siblings have achieved benefits to the ongoing efficient conduct of the business. The restructure is authentic in the way it changes the operation of the business going forward while maintaining continuity of use of the assets and of key personnel. Accordingly, this is a genuine restructure of an ongoing business.